By Daniel Hunter

An upturn in business confidence suggests that the UK economy will stand on firmer ground from mid-2012.

Although conditions remain tough - with the UK likely entering a technical recession following contraction in Q4 2011 - this downturn is likely to be shallower than in 2008-9, according to the latest Business Trends report by accountancy and business advisory firm BDO LLP.

BDO’s Optimism Index, which forecasts business confidence two quarters ahead, rebounded in January to 94.1 from 91.5 in December — the largest monthly increase since February 2011. Although the reading remains below the crucial 95.0 mark that indicates growth, the data suggests that the economy could begin to recover in the second half of 2012.

Encouragingly, the increase in business confidence is broad-based. The Optimism Index for the services sector has increased to 94.7 in January from 92.8 in December, hovering just below the growth mark. Similarly, the manufacturing Optimism Index jumped to 91.3 in January from 86.6 the previous month.

Plummeting inflationary pressures are an additional cause for cautious optimism. Inflationary expectations continued to drop in January, as BDO’s Inflation Index fell to 105.2 from 106.3 in December, returning the Index to levels unseen since last February. This trend is likely to continue throughout 2012, with inflation expected to fall back to 2.8% by March and reaching the Bank of England’s 2.0% target by the end of the year.

The short-term prospects for the UK economy overall, however, remain weak. The Output Index — measuring turnover expectations three months ahead — fell for the eighth consecutive month to 91.2 in January from 91.4 in December. The Index has now stayed below the 95.0 mark for six successive months, pointing to contraction in Q1 2012 and placing the UK in a technical recession. However, the marginal decrease of just 0.2 points suggests we will not see the depths reached at the lowest points of 2008 and 2009.

“Undoubtedly, prospects for growth continue to be fragile — as the UK has already very likely entered a technical recession and the situation in the Eurozone remains difficult to predict," Peter Hemington, Partner, BDO LLP, commented.

“However, the marked increase in business confidence is an encouraging sign pointing to better times ahead. It is particularly reassuring to see a broad based boost in optimism across key sectors such as manufacturing and the all-important services sector.

“We welcome the Bank of England’s £50 billion quantitative easing injection which will provide much needed impetus for growth - the economy looks to be on a firmer footing in the second half of 2012.”

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